Finance Minister Jim Flaherty is mulling the idea of privatizing Canada Mortgage and Housing Corp. within 10 years – a move that could leave Canadian taxpayers on the hook for losses while new owners collect the profits, mirroring the U.S. taxpayer experience during the global financial crisis.
It's certainly true that the CMHC, designed to facilitate home ownership for returning soldiers after the Second World War, has far exceeded its original mandate. The danger, however, is that the privatization process may leave Canadians with a half-privatized CMHC that would resemble Federal Home Mortgage Corp., better known as Fannie Mae, in the run up to the 2008 financial crisis.
Before 2008, investors bought Fannie Mae stock on the assumption that the U.S. government would guarantee the company's debt against default, although Washington's legal liability was never clear. The implicit guarantee left shareholders unconcerned about lending standards.
When companies such as Countrywide Financial began competing with Fannie Mae for lower-quality mortgages, Fannie Mae shareholders demanded more aggressive lending practices to maintain market share and profits. The result was a downward spiral in underwriting standards that contributed to the financial crisis. Shareholders would have been far more concerned about underwriting standards if they had believed they would share the burden of default.
For Canadians, the lesson from the financial crisis is that the liabilities for mortgage guarantors should be 100-per-cent transparent – either government or non-government – but not a mix.
As things stand, debt issued by CMHC is entirely backed by the Canadian government. Taxpayers bear the brunt of any losses incurred on household mortgage insurance policies or on initiatives such as the $2-billion Municipal Infrastructure Lending Program. In return, taxpayers receive the profit generated by CMHC, which last year amounted to $1.52-billion. There is no ambiguity here: Taxpayers get both the upside and downside from CMHC operations.
A privatization initiative would muddle that clear picture because a privately owned CMHC would be too big to fail. Any period of heavy losses would force the government to step in to prevent an implosion of the Canadian housing market. And that could leave Canadian taxpayers on the hook for any losses.
Even if CMHC were to avoid trouble, privatization raises questions. To convince investors to buy in to an IPO, the government might be forced to deeply discount the Crown corporation's assets or offer explicit assurances that Ottawa would backstop defaults on existing loans.
Canada's banking and mortgage markets are the envy of the developed world and it is difficult to see how privatization would improve things. The most likely result is the replacement of a clear system with a series of compromises under which taxpayers would retain liability with little benefit.